The
first audit of the books of Gomez Limited was recently carried out for the year
ended December 31, 2011. Gomez follows IFRS. In examining the books, the
auditor found that certain items had been overlooked or might have been
incorrectly handled in the past:
1.
At the beginning of 2009, the company purchased a machine for $450,000
(residual value of $45,000) that had a useful life of six years. The bookkeeper
used straight-line depreciation, but failed to deduct the residual value in
calculating the depreciation base for the three years.
2.
At the end of 2010, the company accrued sales salaries of $36,000 in excess of
the correct amount.
3.
A tax lawsuit that involved the year 2009 was settled late in 2011. It was
determined that the company owed an additional $73,000 in taxes related to
2009. The company did not record a liability in 2009 or 2010, because the
possibility of losing was considered remote. The company charged the $73,000 to
retained earnings in 2011 as a correction of a prior year’s error.
4.
Gomez purchased another company early in 2007 and recorded goodwill of
$450,000. Gomez amortized $22,500 of goodwill in 2007, and $45,000 in each
subsequent year.
5.
In 2011, the company changed its basis of inventory costing from FIFO to
weighted average cost. The change’s cumulative effect was to decrease net
income of prior years by $39,000. The company debited this cumulative effect to
Retained Earnings. The average cost method was used in calculating income for
2011.
6.
In 2011, the company wrote off $87,000 of inventory that it discovered, in
2011, had been stolen from one of its warehouses in 2010. This loss was charged
to a loss account in 2011.
Instructions
(a)
Prepare the journal entries in 2011 to correct the books where necessary,
assuming that the 2011 books have not been closed. Assume that the change from
FIFO to weighted average cost can be justified as resulting in more relevant financial
information. Disregard the effects of corrections on income tax.
(b)
Identify the type of change for each of the six items.
(c)
Redo part (a) but include the effects of income tax, assuming the company has a
tax rate of 25%
(a)
1. Accumulated
Depreciation—Machinery..... 22,500
Depreciation
Expense............... 7,500
Retained
Earnings.................. 15,000
|
|
|
|
|
2009-2010
|
|
2011
|
|
|
|
|
|
|
|
|
|
|
|
Depreciation taken
Depreciation (correct)
|
|
*$150,000*
* 135,000*
*$ 15,000*
|
|
$75,000
67,500
$ 7,500
|
*$450,000
X 1/6 X 2
2. Sales
Salaries Expense................. 36,000
Retained
Earnings.................. 36,000
3. Income Tax
Expense..................... 73,000
Retained
Earnings.................. 73,000
4. Accumulated
Amortization (Goodwill).... 202,500
Amortization
Expense – Goodwill.... 45,000
Retained
Earnings ($45,000 X 3.5 years) 157,500
In addition, the company should test goodwill for
impairment.
5. No entry
necessary.
6. Retained
Earnings...................... 87,000
Loss on
Write-down of Inventories.. 87,000
(b) 1. Error correction
2. Error correction
3. Error correction
4. Error correction
5. Change in accounting policy
6. Error correction
(c)
1. Accumulated
Depreciation—Machinery..... 22,500
Depreciation
Expense............... 7,500
Retained
Earnings.................. 11,250
Future
Income Tax Liability........ 3,750
2. Sales
Salaries Expense................. 36,000
Retained
Earnings.................. 27,000
Income
Tax Payable................. 9,000
3. Income Tax
Expense..................... 73,000
Retained
Earnings.................. 73,000*
* Since the full $73,000 was charged to Retained
Earnings, the same amount is reversed without factoring in the income tax
effect.
4. Accumulated
Amortization (Goodwill).... 202,500
Amortization
Expense – Goodwill.... 45,000
Retained
Earnings*................. 118,125
Future
Income Tax Liability........ 39,375
*($45,000 X
3.5 years X (1 – 25%))
In addition, the company should test goodwill for
impairment.
5. No entry
necessary.
6. Retained
Earnings...................... 65,250
Income Tax
Payable..................... 21,750
Loss on
Write-down of Inventories 87,000
